Entegris Inc (ENTG) 2016 Q4 法說會逐字稿

Good day, everyone, and welcome to the Entegris fourth-quarter 2016 earnings call. Today's call is being recorded.

At this time for opening remarks and introductions I would like to turn the call over to Steve Cantor, Vice President of Corporate Relations. Please go ahead, sir.

Good morning. Thanks, Eric, and thank you all for joining our call this morning. Earlier today we announced the financial results for our fourth-quarter and fiscal year ended December 31, 2016. You can access a copy of our press release and our supplemental slides on our website, www.entegris.com.

Before we begin I would like to remind listeners that are comments today will include some forward-looking statements. These statements involve a number of risks and uncertainties which are outlined in detail in our reports and filings with the SEC.

On this call we will also refer to non-GAAP financial measures as defined by the SEC and Regulation G. You can find reconciliation tables in today's press release, as well as on our website.

On the call today are Bertrand Loy, President and CEO, and Greg Graves CFO. Bertrand will now begin the call.

Thank you, Steve. Before I start, let me apologize for the sound of my voice. I have a bad cold today and I hope I can keep my voice through this conference call.

So with that let me get started with some comments on our performance this year and our new reporting structure. Greg will follow with more details on our Q4 financial results and provide guidance for our first quarter of 2017. We will then open the line for questions.

2016 was an excellent year for Entegris. We delivered record sales, growing 9% organically and significantly outperforming our markets during the year. Our growth initiatives are on track. We continue to gain significant design wins at key customers for their 10 and 7 nanometer nodes and advanced memory processes.

We enjoyed strong growth in Asia, particularly in Taiwan, where we grew by 17%, as well as in China, where we grew by 22%. We achieved record non-GAAP EPS of $0.94 and a record adjusted EBITDA margin of 22.4%. Finally, we continued to pay down our debt, concluding that year with a net leverage ratio of 0.7 times EBITDA.

All in all, 2016 was a great year, capped by a very strong fourth quarter. We increased our quarterly revenue 16% from a year ago to a record level and achieved non-GAAP EPS of $0.24 for the quarter.

I want to thank our customers for the trust they place in us and for choosing Entegris as their partner of choice to help them increase their yields and improve their device performance. We never take their business for granted and I am very proud of our teams around the world for their absolute dedication to delivering world-class value to our customers.

As we indicated in our press release today, we are now reporting our results in three segments: Microcontamination Control, Specialty Chemicals and Engineered Materials, and Advanced Materials Handling. This change in our reporting offers better transparency into our core competencies and how we are leveraging our unique breadth of technologies to yield new, increasingly synergistic solutions for our customers.

While each segment has different product platforms and core areas of expertise, all segments share a single salesforce, unified core systems and processes, global technology centers, joint technology roadmaps, and a shared focus on a common set of customers. I will briefly describe the key technologies and strategies of each of these segments.

Our Microcontamination Control division represents approximately 31% of our total revenue. This business segment comprises of filtration and purification solutions for both liquid chemistries and gases. These solutions are vital to controlling contamination in the fab environment and also upstream in the bulk manufacturing of certain critical process chemistries.

This segment achieved a record year in 2016. With our i2M manufacturing and R&D site fully qualified and ramped, we are in a great position to continue to benefit from increasingly more stringent cleanliness requirements as our semiconductor customers drive to smaller geometries and more complex structures.

Our Specialty Chemicals and Engineered Materials division represents approximately 36% of our total revenue. This segment includes our specialty gases, cleaning chemistries, advanced deposition materials, specialty coatings, and other advanced materials such as graphite and silicon carbide.

This part of our business achieved strong performance across many of these product lines, including a record year for our advanced deposition business. Many of these materials are very well-positioned on the technology roadmaps of key industry leaders and will be an important growth engine for Entegris going forward.

The Advanced Materials Handling division includes a broad range of solutions to handle and transport critical process chemistries as well as semiconductor wafers and other critical substrates and preserve their purity throughout the supply chain from point of manufacturing to point of use in the fab. In this segment, which accounts for approximately 33% of our revenue, we achieved a record year in sales of our advanced FOUPs, which have become the preferred wafer carrier solution for advanced semiconductor fabs.

We also had a very strong performance for many of our fluid handling components, including a new line of high-purity drums. These products benefited from new cleanliness requirements for many advanced process chemistries. Our record results in 2016 are a reflection of how we are deploying our broad portfolio of technologies to solve the increasingly complex materials challenges our customers are facing.

I will describe just two of the many examples of how we are achieving this. Let's discuss first the value proposition we are offering in advanced deposition materials.

In this area our leadership position is based on three factors: first, our ability to synthesize unique molecules; second, the knowledge of how to bring these materials to the highest levels of purity; and finally, third, the capability to safely transport these materials and deliver them onto the wafer at the highest throughput. We are the only Company in the industry that can provide this type of integrated solution by leveraging our expertise in materials, filtration, and materials handling and delivery.

Second example is our filtration business, where we continue to expand our leadership position in a number of key areas in the fab, as well as upstream to critical chemical suppliers. A key reason for this growth relates not only to our ability to develop and make better filtration solutions, but also our ability to develop them faster because of our intimate knowledge of the chemistries we are filtering. I know of no other company that can offer this combination of expertise and semiconductor process knowledge.

We will talk more about these three segments at our upcoming analyst meeting on March 20 in New York, which will also give investors an opportunity to meet the general managers leading these three divisions.

Turning to 2017, I remain very positive about the health and prospects of the semiconductor industry. I continue to believe that we are entering a multi-year period of growth, driven by the broadening of the industries and markets, which is supported by the continued adoption of smaller geometries and the introduction of increasingly challenging 3D architectures. These trends will continue to drive greater levels of wafer starts and the interrelated performance and purity challenges facing the industry will play to our strength.

Our focus for 2017 continues to be on the quality of our execution and on creating even greater value for customers, shareholders, and employees. Given this focus and our current outlook for 2017, we expect to continue to outperform the industry by 200 basis points and to expand our bottom line twice as fast as our revenue growth. This will translate into a meaningful expansion of our profits and adjusted EBITDA margin greater than 24% and non-GAAP EPS in excess of $1 per share.

Before turning the call to Greg for the financial details, I want to extend my personal appreciation for the Entegris teams around the world who have made our 50th year arguably the best year in the Company's history. And more importantly, they have set the stage for even greater things ahead. Greg?

Thank you, Bertrand. Fiscal 2016 was indeed an excellent year for Entegris. Sales of $1.2 billion were 9% above last year and we grew non-GAAP EPS to $0.94 per share. Through the fourth quarter our sales exceeded our guidance and we delivered solid net income EPS and cash flow.

Fourth-quarter sales of $309 million grew 4% from Q3 and 16% from a year ago. The strong sales were driven by strength across the board as we grew sequentially in all regions except Japan. Sales in the quarter were unfavorably impacted 1% due to foreign exchange, specifically the yen, which weakened sharply against the dollar beginning in November.

As Bertrand indicated, we have elected to report our results in three segments. A table of the Q4 and fiscal results by these segments can be found in the press release. I will now summarize the results.

Fiscal 2016 sales for Microcontamination Control, or MC, of $363 million grew 15% from the prior year. MC achieved a non-GAAP adjusted operating margin of 30.5%, increasing its profitability by 33% from 2015 or more than twice the rate of growth in sales.

In Q4, MC's sales of $98.7 million grew 4% from Q3 and were up 20% from Q4 of last year. The strong sales reflected strength in liquid filters for wet etch and clean and bulk photo applications and strength in gas filter products driven by strong industry tool shipments.

Fiscal 2016 sales for Specialty Chemicals and Engineered Materials, or SCEM, of $428 million grew 2% from a year ago. SCEM's segment non-GAAP adjusted operating margin was 22.6%.

In Q4, SCEM's sales of $111 million grew 6% from Q3 and were up 8% from Q4 of last year. The quarterly growth was driven by a healthy rebound in sales of specialty gas solutions and continued record levels of demands for our advanced deposition materials related to the industry's ramp of 10 nanometer and 3D NAND processes.

Fiscal 2016 sales for Advanced Materials Handling, or AMH, of $384 million grew 11% from a year ago. AMH's segment non-GAAP adjusted operating margin of 20.9% was up from 19.2% in 2015.

In Q4, sales of $98.8 million grew 1% from Q3 and were up 21% from Q4 of last year. The strong year-over-year sales reflected strength in wafer handling products, specifically our new generation of FOUPs, which benefited from strong investments in 3D NAND and advanced logic.

Fourth-quarter non-GAAP adjusted gross margin was 42.7%. The lower margin was primarily the result of the impact of foreign exchange, particularly the yen which weakened sharply beginning in November. Although the fact that we both sell and manufacture in Japan generally gives us a natural hedge against movements in FX, the sharp drop of the yen over a very short period of time put temporary pressure on margins.

Excluding the effects of FX and variable compensation expense, gross margin would have been consistent with our guidance. Assuming relatively stable exchange rates for the yen, we expect gross margin in Q1 to be approximately 43.5%.

Excluding amortization of $10.9 million non-GAAP operating expenses in Q4 were $76 million. We expect non-GAAP operating expenses to be $76 million to $78 million in the first quarter. Adjusted operating margin was 18.1%, in line with our expectations.

Net interest expense was $9 million in Q4, or $400,000 lower than in Q3. We expect interest expense to be approximately $8.3 million in Q1 as we continue to pay down debt.

Our GAAP tax rate for the quarter was 25%. Our non-GAAP tax rate was also 25%, up from 23% in Q3 due to a slightly less favorable geographic income mix. For 2017, we are expecting our non-GAAP tax rate to be approximately 24%, consistent with the 2016 rate. Our non-GAAP earnings per share was $0.24, which was above the high end of our guidance.

Adjusted EBITDA for the quarter was $70.1 million, or 22.7% of our top line for the quarter. Cash flow from operations for the quarter was $57 million and free cash flow was $37 million. Accounts receivable and inventories declined modestly from Q3 as DSOs improved to 49 days in Q4 and inventory turns were 3.8, up from 3.6 in Q3.

Fourth-quarter CapEx was $20 million and was $65 million in 2016, which was slightly below our initial spending plans. For fiscal 2017, we expect full-year CapEx to be $80 million to $90 million. Our cash balance was $406 million of which $140 million was in the US.

During the quarter we reduced our long-term debt by an additional $25 million. Total long-term debt, including current maturities, is $585 million and our net leverage was 0.7 times EBITDA. Since closing the ATMI acquisition in 2014, we have repaid $226 million of debt and we expect to repay an additional $100 million over the next 12 months. We also repurchased $4 million of stock in the quarter to offset dilution from share-based compensation and we expect to continue this practice each quarter going forward.

We are continuing to execute our capital allocation strategy, which balances debt repayment, building liquidity for potential M&A, and opportunistic share repurchases.

Turning to our outlook for Q1, we expect sales to range from $295 million to $310 million, reflecting continued strong demand for our solutions. At these revenue levels we expect non-GAAP EPS to be $0.23 to $0.27 per share, consistent with our target model.

In summary, we are very pleased with our overall performance in 2016. We grew our revenue 9% and adjusted EBITDA 13% to record levels. Once again, we demonstrated our ability to grow faster than our markets, and in this case, by a significant margin.

Finally, we like our growth momentum going into 2017, a year when we expect again to outgrow the industry on the top line and to expand our bottom line at twice that rate.

Operator, we will now take questions.

(Operator Instructions) Patrick Ho, Stifel.

Congrats on a very nice year. Bertrand, you gave some good color today on the advanced deposition materials market opportunity that you are starting to see gain traction. As you look forward in 2017, which of some of those other new market opportunities you have discussed in your analyst day do you see kind of reaching an inflection and being, quote, the next growth driver for the Company, specifically for 2017?

Thank you, Patrick, for the comment on the quality of the execution in 2016. Relating to 2017, you are correct that out of the four growth opportunities that we characterized in last year's analyst day the one that had the most immediate impact on our 2016 performance was the photoresist, the bulk photoresist opportunity. And going into 2017 I would expect deposition materials, but I would also expect our new CVD and PVD coating solutions to have a much greater impact on our overall growth trajectory.

Again, if you look at the current momentum that those technologies have had in the marketplace as we exit 2016, those expectations are totally intact.

Great, that is helpful. And given your broad-base product portfolio that covers both wafer starts as well as in the CapEx side of things, given that both demand trends on both of those markets continue to be very healthy as we enter the early parts of 2017, how are you managing your supply chain in keeping up with the tight demand needs for a lot of your customers today?

You know, Patrick, we have been serving this industry now for many, many years and this industry has always been very extreme in -- over the years. So we have a very scaled supply chain organization that is very versed at managing expansion and contraction that we see regularly in demand for our products. This is not a new challenge and one that we are certainly well equipped to manage.

So I don't expect that to be an issue going forward, as we expect to see continued growth across a number of our product lines.

Great, thank you.

Chris Kapsch, Aegis Capital.

Don't know if you heard the great news out of Silicon Valley this morning, but apparently the semiconductor industry saw its shadow, which means we have at least six more years of Moore's Law. So that is good news.

I wanted to follow up on just the capital allocation and M&A and maybe juxtapose against the new segmentation. To the extent that you have actionable acquisition opportunities, should we assume that those would be preferred to like any one segment versus the other? Are there more opportunities, for example, in Specialty Chemicals and Engineered Materials or would it be potentially across the board in these new segments?

Chris, if you look at our M&A pipeline, it really cuts across all of those segments and we are, again, very focused on that. We continue to believe that well-calibrated M&A is a preferred way for us to deploy our capital and the best way to create shareholder value.

Having said that, again, you should expect us to be disciplined and potentially patient about that. As I reminded everyone on our last call, we have very exciting organic growth opportunities ahead of us and that will continue to be our number one priority as we start 2017. We need to execute flawlessly and I know we will.

So in summary, if we find actionable and affordable targets, expect us to be active on the M&A front. And if not, you should expect us to double-down our focus on organic growth and steadily pay down our debt.

Right, okay. And if I could just follow up and parse the recent trends under the new segmentation. As you mentioned, it looks like growth accelerated across all three of these new segments, but the acceleration does appear a little more pronounced in I guess what you are calling now MC and AMH.

So I am just wondering if those two segments are disproportionately benefiting from the shift to advanced geometries like 10 and 7 nanometers and 3D NAND? Or is it that they are just a little bit earlier cycle? In other words, is it possible that the strength, the acceleration in those segments actually portends a lag benefit in the Specialty Chemicals and Engineered Materials portion of your overall portfolio?

Yes, this is really the second interpretation. If you think about those divisions, first of all, you should appreciate the fact that they all contribute to the financial success of Entegris in many different ways.

And you are right; the Microcontamination division has been and is expected to continue to be a very strong contributor, both to the top and the bottom line of the Company. This is a business in which we have invested a lot. Remember we completed the investment of our i2M center. We have added since then new capabilities in terms of new surface modification technology, new cleaning recipes, so we expect to see lasting returns from those investments.

And this is a division, obviously, where we expect to benefit from the increasingly more challenging contamination control that the semiconductor industry will be experiencing.

If you think about Specialty Chemical and Engineered Materials, that division had a good year in 2016, but we expect to see better performance in the years to come. I am sure it is not lost on you that four out of the five growth initiatives that we presented in our analyst day last year belonged to this division.

So to your point, we are a little early in the adoption cycle of many of those technologies, namely advanced deposition materials, boron mixers, the new series of families of coatings, as well as the Planargem technology. But as I said earlier when I was answering the previous question, all of those initiatives showed great promises in 2016 and, as they grow in size and maturity, they will start having a more meaningful impact on the division's growth rate.

I see. Thanks for that additional color. Just one quick follow up on that. Based on that commentary and based on the fact that there does sound like more innovation opportunity in that particular segment, is that how we should think about your R&D spend; that it is disproportionately skewed towards the SCEM segment? Or is the R&D spend also balanced across the three new segments? Thank you, guys.

So I would only say that, in general terms, we would expect maybe a little bit more R&D intensity in both Specialty Chem and Microcontamination.

Fair enough, thank you.

And the implication of that is that if you think about the AMH division, it has a slightly different profile. I mean, first of all, there is much greater exposure to the CapEx side of the industry. About 55% of the revenue for the division is really driven by the industry CapEx.

Remember that this division is the home of our fluid platform, fluid-handling products, advanced valves for controllers and dispense systems. So this is a business that inherently will be a little bit more volatile and will likely not be playing as much of a role in terms of the overall growth of the Company. But, at the same time, it is certainly a division that we expect to be a very meaningful cash flow contributor.

Got it. That is very helpful, thank you.

(Operator Instructions) Edwin Mok, Needham & Company.

Good year. Thanks for the new segment info. I have a question about your filtration business. You guys talk about ramping up the i2M facility that (inaudible) really good double-digit growth this year, in 2016.

I was just curious; how much of that growth was driven by the i2M facility? And do you see that ramp behind us or do you see more option to grow? I mean obviously 15% is really strong growth for this business. Just curious if that is sustainable going into 2017.

So, Edwin, there were three major growth vectors for that division. One was the bulk photoresist filtration applications, which grew very meaningfully and very significantly in 2016, and that is really driven by the i2M investment.

Another part of the portfolio for that division that enjoyed very strong growth was our wet-etch and clean filtration products. We introduced a number of solutions for bulk filtration and point-of-use filtration and that business also recorded a record year in 2016. But that business didn't really fully benefit from the investments we made in the i2M center.

And the last product line where the gas filters. The R&D center for our gas filtration business is in the i2M center and benefited from the investments that we made there. Those filters are used most prominently on a number of CVD PVD tools and, as you know, the industry enjoyed a very significant growth rate for those types of toolsets. And our products benefited from that.

Great, actually, very -- thanks for your color. I noticed that the Specialty Chemicals segment profitability is down in 2016. Was it because of some of the investments you guys are doing and what give you confidence that you can grow that profitability as you go through 2017?

The growth driver in that business, or one of the main growth drivers in that business, is the deposition business. That is a business that as we ramp it, frankly, the margins will be lower until we get to volume.

The other thing I would say is overall, as Bertrand said, four of our five key growth initiatives that we highlighted at the analyst day are in that division. So, in general, the investment levels there are higher.

So you expect leverage to improve the profitability of this (multiple speakers)?

That business should have meaningful leverage, particularly as the deposition business ramps, as well as some of the coating applications ramp, which are also tied at one level to deposition.

So think about normalized levels of operating income for this division in the mid-20%s.

Okay, great. That is really helpful. Last question, one of your peers, and actually some of the people in the industry, talk about maybe handset chip inventory a little high exiting 2016 and, therefore, maybe sound a little more cautious on the first quarter. Your guidance obviously imply you think business looks really good on the first quarter.

Just curious are you seeing any of that or is that already factored into your guidance? Can you give us any color on that?

Edwin, you are right and we, in fact, expect wafer starts to contract by about 4% sequentially in the first quarter. And that is really the assumption that essentially gets you to the low end of our guidance.

Having said that, we expect to continue to outperform the industry in Q1 as we did in 2016 and the reason is really that we introduced a number of new products last year in filtration, deposition materials. We talked about all of them earlier. And these new product introductions have been not only very successful in 2016, but we are seeing again very strong momentum for those technologies going into 2017. And that is what gives us the degree of confidence to guide the way we did.

So in summary, we anticipate softness in fab activity with normal seasonality, but we expect continued strength in our new product sales.

Sounds great. Thanks for the color.

Amanda Scarnati, Citi.

Just starting off with China and any sort of growth that you are seeing there. I've been hearing from a few competitors that are starting to see a lot of growth in China in different areas. Wanted to see what your exposure there was and what expectations you have going forward.

The Chinese market is a very important market for us. It's certainly an area that we are very, very focused on. We grew 22% in China in 2016 and that was after a very strong performance in 2015. We expect that growth momentum to continue going into 2017. We expect to benefit from the activity that we see in the indigenous fabs, as well in the fabs controlled by foreign investors.

But, more importantly, we are also very focused on what we expect to be a busy second half of the year when some of the new investments are taking place in China. We have increased our degree of investment in China in the form of direct sales coverage, but also increased the number of partnerships that we have been securing in the region.

Thanks. And then just on gross margins. The last two quarters they have dipped down quite a bit off the peak. What do you see in terms of linearity in margins going forward? And do you expect them to get -- be able to get back up to that 55.5%, 56% peak that you saw in June quarter of the last two years? Thanks.

I mean as we move into Q1, first of all, we don't expect to see the impact of currency to be so dramatic. In addition, we did have some headwinds in Q4 related to logistics costs, which we don't expect to recur in Q1. So we do expect the margin in Q1 to get back to that mid-43%s. Then as we move through the year we should see the margin continue to improve.

I think you said 55%, 56%; it is actually 45%, 46%. And I would say that 45% number is certainly something that is in within our -- is in our expectations.

Great, thank you, guys.

Dick Ryan, Doherty.

Greg, with your new segment reporting, can you give us unit CapEx split in Q4? And I think Bertrand you said you expect the unit side to be down 4% into Q1.

Yes, I can provide just at high level some color. What -- if you think about Microcontamination, it is about 80% unit, 20% CapEx. If you think about Specialty Chem, it is about 100% unit driven. There is a very modest component of CapEx. And then the last division, AMH, it is about 55% CapEx, 45% unit.

Great. Thanks for that split, Bertrand. Thank you.

And with no questions in the queue, I will turn the call back to Mr. Cantor for any additional remarks.

Great. I would like to thank everyone for joining the call today. As a reminder, if you are interested about our analyst meeting on March 20, you can contact me for more information. Thank you, have a great day.

This concludes today's call. Thank you for your participation. You may now disconnect.